Low Gear

H as volatility finally set tled back down to the range that prevailed before the tremors of 1998? Two years ago, volatility shot up as the stock market was rocked by Russia's default and the near-collapse of John Meriwether's giant hedge fund. Volatility continued at a feverish level through the market's subsequent bull run of last year and early this year. Only in the past few months have we settled down to more traditional volatility levels.

If you believe the massive gyrations are behind us for good, how do you profit with options? By selective buying, option pros advise. Remember, quite a few savvy investors, including floor traders, hedge funds and Wall Street trading desks, have lost money this summer by buying cheap options on stocks such as
America Online
only to watch them lose value in today's low-volatility environment.

"My clients don't want cheap, they want free," jokes Lillian Seidman, half of Miller-Tabak's options trading team. "Volatility has to be rock-bottom. And investors' time horizon is much shorter."

Skipping September options and going for October works with liquid, largecap stocks, too, such as
Cisco Systems
,
Yahoo
or
IBM
. Traders feel there is more risk and more reward in October-dated options, and they seem to be attracted to the action. For example, AOL September 60 options are fetching lower prices than AOL October 60 options.

"It's really across the board, and that's the market saying there won't be a big move" in these stocks until October, adds Paul Foster of 1010wallstreet.com in Chicago. October brings earnings season and a renewed focus on interest rates. The months also invariably sparks talk of the 1987 crash.

There are trades to avoid in a low-volatility market, particularly selling covered calls against stock you already own. "Don't sell calls on your entire positions of stock, but only on a portion," warns Kevin Murphy, option strategist for
Citigroup's
Salomon Smith Barney unit.

Lastly, if you just don't believe the market will stay this tame, then buy straddles in stocks where you expect a big breakout, Murphy adds. Straddles, which involve buying identical puts and calls, are essentially bets that a gain in one option will end up being greater than the loss on the other.

W ho was the lucky investor with the foresight to buy call options right when Emulex's stock hit a temporary ditch last week? Stick around, we may soon find out.

By now everyone knows that federal authorities nabbed the El Segundo, California, college student who was losing money shorting Emulex shares, and, in an attempt at covering his losses, allegedly issued a false press release to push down the stock price. But there was no mention of the suspect using the options market to benefit from the stock's subsequent recovery. So authorities are likely still looking for the person or persons who bought call options knowing the stock was being manipulated and was set to recover.

Emulex's stock fell as low as $43 from the previous day's closing of $113.06 on the false "news" that the company's chief executive had resigned and the SEC was investigating the company. That day, one buyer of Emulex calls did quite well, hitting the Pacific Exchange's electronic trading network with six orders for call options, according to traders on the floor. Each order was what is known as a "20-lot," or 20 contract. So the investor bought 120 call options in all, covering 12,000 shares, floor sources said. Potential profits could have run into the millions.

The Chicago Board Options Exchange said its investigation into Emulex options trading that day is "ongoing."

W atch those seat prices wiggle! The CBOE last week said it is no longer interested in exploring a merger with the Chicago Board of Trade. That suggests the business strategies of the two exchanges, including a planned switch to electronic trading, will remain mired in an ongoing dispute. Owners of CBOT seats could now lose their right to trade on the CBOE, so Board of Trade seat prices could drop. Conversely, expect prices for seats on the CBOE to tick up.

The CBOE said it would ask the SEC for an interpretation of the rules concerning the right of full CBOT members to exercise trading rights at the options exchange.

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